Securities Laws and the Municipal Market:
Points Every Market Participant Should Keep in Mind
Paul S. Maco
Director, Office of Municipal Securities
U.S. Securities and Exchange Commission
Before the Florida Government Finance Officers Association
Naples, Florida
June 7, 1999
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The Securities and Exchange Commission, as a matter of policy,
disclaims responsibility for any private publication or
statement by any of its employees. The views expressed herein
are those of the author and do not necessarily reflect the
views of the Commission or of the author's colleagues on the
Commission staff.
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Our presentation today is one of many efforts we have
underway to remind all participants of the application of
the federal securities laws in the municipal market. The
Office of Municipal Securities has put together the text of
over 140 Commission enforcement proceedings involving
municipal market participants referred to in the
presentation. This compilation exceeds five hundred pages,
offering you and your advisors one hundred forty-four
illustrations of "facts and circumstances."
Several observations may be made from an overview of
these cases, although I should point out that, individually,
each case speaks very well for itself. First, the cases
involve a variety of issuers, including general obligation
issuers, together with issuers of revenue and conduit bonds.
Stale and misleading accounting frequently is at the heart
of disclosure problems. A good number of the cases involve
health care facilities and dirt bond projects. As efforts
to prepare voluntary disclosure guides for these sectors are
underway, the clear message of these cases should not be
overlooked by health care institutions or developers. Many
of the financial advisor and underwriter cases, including
recent yield burning settlements, contain findings of
professionals breaching their fiduciary duty - often towards
you, the issuer. Many of the cases involve hidden payments,
kickbacks and other corrupt practices.
As we warn you right up front, the 500 page compilation
is a small part of the picture. Many key cases interpreting
the antifraud provisions do not even remotely involve a
municipal bond. You will not find them in the compilation,
but your advisors should be familiar with them. Many actions
under the securities laws involving municipal bonds have
been brought by private litigants. You will not find them
here either. Again, your lawyers should be familiar with
them.
The compilation was included in materials for the
recent Washington Workshop of the National Association of
Bond Lawyers. We plan to provide it to the Section of State
and Local Government Law of the American Bar Association and
the International Municipal Lawyers Association. You may
want to find out if your counsel is familiar with these
proceedings and other basics of the securities laws before
you look to them for advice on securities law matters.
Enforcement is only one part of the Commission's
efforts to improve the municipal market in the United
States. By now, I expect that you are familiar with the
framework for secondary market disclosure put in place
almost five years ago by Rule 15c2-12. Combined with
enforcement activity, our efforts to end pay to play, by
dealers, lawyers and others through MSRB Rule G-37 and
voluntary initiatives have made progress in attacking
corruption and conflict of interest in the municipal market.
These efforts are making what The Economist only a few years
ago called "America's notoriously corrupt municipal bond
market" a thing of the past.
Even though municipal borrowing in the United States
has been going on for almost two hundred years, the
importance of timely and accurate information to investors
and to markets bears continuing emphasis. Price
transparency, reliable accounting, accurate disclosure in
primary and secondary markets and markets free from
conflicts of interest and corruption, are concerns of
markets and investors worldwide. It should be no surprise
that they are of concern at home in our municipal bond
market or that they have been the focus of Commission
efforts over the last five years.
There are several ideas I will offer you today - on
Y2K, Electronic Disclosure, Internet disclosure, and
continuing disclosure - and information you may find
surprising about the municipal market. Our enforcement
actions carry messages too -- including don't run with
scissors or play Russian Roulette. I hope you carry these
thoughts with you when this conference is over and you
return to the important work you do every day.
Now first, for that surprising news. In testimony
before Congress a few weeks ago, the municipal bond market
was held up as an example for the corporate bond market to
follow. The issue is price transparency - the ability of an
investor to know the trading price of his or her bonds. In
transparency, the closer market information is to right now,
the better.
Today, at the end of each day, every broker-dealer
buying or selling municipal securities reports its trades to
the MSRB. Overnight, the trade data is processed and at
6:00 am on the following business day, the trading data is
released - price and volume for every municipal bond that
traded four or more times during the trading day. The Bond
Market Association now posts this information on its
website, where anyone with access to the internet may obtain
it. The MSRB has announced that it will shortly expand this
data. Investors not only benefit from recent price
information, but also from the increased ability of
regulators to oversee the market as a result of the
reporting system. Regulators now have access to virtually
all trades in the municipal market - and the tracks of any
fraudulent trading activity.
Last fall, Chairman Levitt called on the NASD to not
only equal but exceed the next day reporting for municipal
bonds and put in place real time reporting for corporate
bond transactions. The NASD has taken up the challenge, but
as we enter the next century, municipal market transparency
is the model.
It's hard to mention the next century without bringing
up Y2K. You should be aware that last summer the Commission
issued a release discussing disclosure responsibilities of
issuers on Y2K matters. A portion of this release
specifically addresses municipal issuers. Generally, the
release reminds municipal issuers that the effect of the Y2K
problem may be material to investors - and gives a heads up
that such information may need to be disclosed in order to
avoid trouble under the antifraud provisions. Issuers, and
those assisting issuers in preparing disclosure, should
consider Y2K issuers in preparing all disclosure documents,
whether an official statement, a CAFR or other filing under
a continuing disclosure covenant or other disclosure
reasonably expecting to reach investors and the trading
market. Boilerplate, it should be clear, does not help in
Y2K or any other disclosure topic. Boilerplate itself can
be misleading. Don't give in to the temptation to
substitute it for meaningful disclosure.
You may have heard discussion this past year of use of
electronic official statements. Perhaps you have used one
yourself. The Commission has stated in an interpretive
release that electronic delivery of official statements by
broker dealers is permissible under Rule15c2-12 - provided
certain standards are met, including notice, access and
evidence to show delivery. Some customers may not have
access to means of electronic communications - today,
households with internet access still do not exceed 50% - so
paper remains part of the process for most practical
purposes. Dealers still must file papers official statements
under G-36 - with the MSRB, although the MSRB has indicated
dealers may comply electronically with certain other MSRB
rules. Issuers should be sensitive to dealer obligations
under the MSRB rules, in this as in other contexts.
This is a good point for a reminder that regardless of
whether your disclosure is on paper or transmitted
electronically, the antifraud provisions apply. Keep this
in mind with respect to Internet - and other -- disclosure.
If a statement is made reaching markets or investors, the
anti fraud provisions apply, regardless of whether the
statement is on paper, or delivered electronically. The
following question may prove a useful rule of thumb for you:
"If it violates the law on paper, how is it suddenly legal
when on the internet?"
Analysts have frequently complained of delayed and
stale continuing disclosure in sectors such as health care.
Hospital and other conduit borrowers should be aware the
anti-fraud provisions apply to such disclosure and stale,
misleading disclosure carries with it potential liability
under the antifraud provisions. The cases we have brought on
bad disclosure in official statements provide guidance to
other disclosure - including annual reports under 15c2-12
and other statements. Stale and misleading accounting
information can create as much trouble for you in a report
filed with a central repository as it can in an official
statement in a primary offering. Two easy ways to avoid
this problem: (1) provide on a timely bases and (2) if
necessary, provide an update. An issuer providing stale
disclosure into the secondary market is playing Russian
Roulette with the antifraud provisions.
I promised to talk a bit about our enforcement actions
and the messages they carry. Earlier, we quickly reviewed
enforcement actions brought by the Commission in the
municipal market over the last thirty years. This past
year, the Commission brought several enforcement actions
against issuers of municipal securities, including the
settled proceedings involving 39 issuers in Mississippi
found to have violated the antifraud provisions. The
message is if you authorize something to be disclosed to
investors, be sure you're comfortable with it. As the
Commission's order states: "Issuers may not blindly rely on
professionals such as bond counsel, to ensure that factual
representations being made by the issuers are accurate." In
other words, you can't just hire someone and go to the
beach.
Recent enforcement actions include a number of cases
against professionals, including financial advisers and
lawyers, who have defrauded issuers as well as investors.
We have also brought cases against financial advisors who
mislead issuers by failing to disclose the full extent of
the fee's received in a transaction. The recently settled
action with Lazard Freres is another example of a financial
adviser-issuer relationship that proved costly to the
issuer. If you haven't read it yet, you should. In
addition, several actions have been taken against dealers
who misled issuers about the risks of investments sold to
those issuers.
The message is - know the professionals you hire. If
you hire someone to assist you in disclosure preparation -
be sure they are competent to do so - before you rely on
them. If your lawyers do not understand the securities
laws, you are put at risk. I think of the T-shirt offered
in the PBS Catalogues captioned - "Runs with Scissors" -
this should not be appropriate wear for you.
Lately, there have been reports of underwriters engaged
in what's termed a "race to the bottom." In an effort to
secure business, the story goes, underwriters are promising
to require less disclosure from issuers than their
competition currently with the assignment. I can't decide
who is more foolish in this situation - the underwriter or
the issuer hiring the underwriter. If in the race to the
bottom, the fraud line is crossed, they shouldn't be
surprised to find us waiting with open arms.
We have also heard complaints from investors that some
official statements include disclaimers such as "In making
an investment decision, investors must rely upon their own
examination of the terms of the offering and the Borrower."
It should be clear to you after this mornings presentation
that such a statement is inconsistent with and does not
override the antifraud provisions. Another example: "No
representation, warranty or guarantee is made by the
Underwriter as to the accuracy or completeness of any
information in this Official Statement." Any Underwriter
considering using such language should recall the express
words of the Commission in the March interpretive release
five years ago: " In light of the underwriter's obligation,
as discussed in prior releases, to review the official
statement and to have a reasonable basis for its belief in
the accuracy and completeness of the official statement's
key representations, disclaimers by underwriters of
responsibility for the information provided by the issuer or
other parties, without further clarification regarding the
underwriter's belief as to accuracy, and the basis therefor,
are misleading and should not be included in official
statements."
We're undertaking new efforts to reach issuers as well,
to educate them as to their disclosure responsibilities.
Many issuers, particularly small ones, do not have the
opportunity or the budget to participate in national or
evening regional conferences. This January, we began an
effort, jointly with the National League of Cities, NABL,
GFOA ad TBMA to reach small issuers. We are beginning in
Mississippi. We will go elsewhere.
On this point - as well as others, I welcome you
guidance on how best to communicate our message to issuers.
If there is additional work we can do, ask us. We'll take
you upon the offer if it's all practicable.
The SEC is a permanent part of the landscape in the
municipal market. Participants need to understand that. A
few have questioned when our enforcement actions will end.
I suggest the answer to that question is not in our hands,
but in the hands of participants in the municipal market.
With stale disclosure, races to the bottom and efforts to
disclaim responsibilities imposed by law, that day may not
be anytime soon. We will be delighted, of course, if your
own disclosure practices make us like the Maytag repairman
in those old commercials: on the job but with little to do
in the municipal market because everything is working so
well.
* I promised you a few thoughts you could take home with
you - and I've given them to you. In case you missed them
here they are again: I hope you put them to good use:
* Keep Y2K issues in mind when preparing your disclosure.
* Remember, the antifraud provisions apply to all
disclosure - including that you make pursuant to 15c2-12
contracts - and file with central repositories - and
information you place on the Internet that may reasonably
be expected to reach investors.
* Remember: if it's not legal on paper, why would it be
legal in the internet?
* Don't play Russian Roulette. Avoid problems with
secondary market disclosure, particularly financial
information by providing it on a timely basis and if
necessary providing an update.
* Issuers are primarily responsible for their disclosure.
Be sure you're comfortable with it before you approve it.
You can't just go to the beach.
* Don't run with scissors. Be sure the professionals who
advise you to prepare disclosure know the securities laws
- If your lawyers do not understand the securities laws, you
are put at risk.
* And finally - do your best to make us like that Maytag
Repairman!
Thank you.